Productivity spillovers from services firms in low- and middle-income countries: What is the role of firm characteristics and services liberalization?

Posted By
Deborah Winkler
On
November 14, 2018 @ 09:47
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Economics,Trade |
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It has been widely acknowledged that services play an important role for other industries, in particular manufacturing. A study by the Organisation for Economic Co-operation and Development (OECD) finds that services represent at least 30% of the value added in manufacturing exports (OECD 2014). Another study by the World Bank suggests that countries with a higher services content in their downstream economies are also those producing more complex goods (Saez et al. 2015). These developments are strongly linked to the emergence of global value chains, which depend on the quality of embedded services, ranging from quality control, logistics, storage facilities, packaging, insurance, and distribution (Taglioni and Winkler 2016).

Services not only serve as inputs to the manufacturing sector but are also a relevant source of productivity spillovers, i.e., knowledge diffusion in the form of unintentional transmission or intentional transfer. The strong dependency of firms on services inputs implies that improvements in services sectors, including services firms’ performance and services reforms, are likely to affect all downstream sectors. Second, the performance of downstream sectors depends to a larger extent on the availability and quality of domestic services firms due to the limited cross-border tradability of services compared to material inputs (Javorcik 2008).

However, there is still a knowledge gap on the spillovers from services to manufacturing, in particular for low- and middle-income countries, which our new study aims to fill. Several studies suggest a performance-enhancing effect of services usage within sectors and firms. Others point to the relevance of services inputs to downstream industries, in particular manufacturing sectors. Using a cross-section of more than 38,000 manufacturing and 24,000 services firms in 105 low- and middle-income countries over the period 2010 to 2017 from the World Bank’s Enterprise Surveys, our new study focuses on the productivity and technology spillovers from services to manufacturing firms as well as the role of firm characteristics and a country’s services liberalization in mediating spillovers (Winkler 2018).1

Our study confirms positive spillovers to manufacturing firms resulting from the higher average regional productivity and technology intensity of services firms but rejects the existence of spillovers from the presence of services firms alone. This finding is of high policy relevance as it suggests that the number of services firms in a region and their share in a region’s total output are not sufficient to generate spillovers—what matter are the productivity and technology intensity of services firms.

Our analysis also highlights the importance of firm heterogeneity in influencing spillovers, both from the perspective of services and manufacturing firms. The extent of spillovers depends on both the potential of services firms to generate spillovers and the capacity of manufacturing firms to internalize them (see Figure 1). Our findings suggest that some types of manufacturing firms benefit more strongly from services spillovers than others, in particular those that are large, foreign-owned, and exporters. At the same time, some types of services firms have a higher spillover potential: foreign ownership status and the top manager’s experience are linked to a higher productivity and technology spillover potential, whereas exporting is only associated with the latter.

A country’s income status also matters for services spillovers. Our results suggest a U-shaped effect for productivity spillovers from services firms, i.e. spillovers are larger in upper-middle and low-income countries than in lower-middle income countries. The results are different for technology spillovers, which benefit lower-middle and low-income countries more. In addition, our findings show that the productivity of services firms is more sensitive to firm characteristics in low-income countries.

First, openness to foreign investment and trade helps magnify both the absorptive capacity of manufacturing firms and the spillover potential of services firms.

Second, policies aiming at skills and technological upgrading can increase the spillover potential of services firms, while manufacturing firms benefit from policies facilitating their growth.

Third, the findings suggest that policy interventions that improve the productivity of services firms and the absorptive capacity of manufacturing firms have a larger impact in lower-income countries.

Finally, services trade reforms increase productivity spillovers to manufacturing firms, but not across all modes of services supply. While liberalization in mode 1 and 3 services supply seems to be beneficial, liberalization in mode 4 services trade reduces both the spillover potential and actual spillovers.

1 The study is closest in nature to the study by Hoekman and Shepherd (2017), who find evidence for regional productivity spillovers from services to manufacturing firms using the World Bank Enterprise Surveys for the period 2006–2011.